Yen surge alarms some in BOJ, chance of easing rises

By Leika Kihara

TOKYO (BestGrowthStock) – The yen’s rise to a fresh 15-year high against the dollar on Tuesday has nudged up the previously negligible chances of a monetary policy easing by the Bank of Japan before its rate review next month, sources familiar with the matter said.

Action before the BOJ’s rate review on September 6-7 remains far from a sure bet, however, because some in the bank feel more evidence of damage from yen gains is needed to justify moving now.

Sources said last week that the BOJ will consider easing policy at its rate review next month and is lining up its options, but is in no mood to act now.

But Tuesday’s sharp yen gains and stock price falls alarmed some in the BOJ, who do not rule out the chance of easing policy this month if the yen continues to head toward its all-time high above 80 to the dollar.

BOJ Governor Masaaki Shirakawa is hesitant about further action, on the view the economy is on track for a moderate economic recovery. But that may change as the strong yen and slowing U.S. and Chinese growth inflict clearer damage on the economy.

Following are some policy options for the BOJ:


Possibility: Most likely

The BOJ set up a funding scheme in December that it expanded in March, which offered up to 20 trillion yen ($235 billion) in three-month loans at 0.1 percent. The decision to set up the scheme was made at an emergency meeting held a day before Shirakawa met with then-Prime Minister Yukio Hatoyama.

That failed to boost bank lending, which marked its eighth straight month of annual falls in July. But it helped to push the yen further away from the November high.

Increasing the amount of funds available, or extending the duration of loans to six months, could push down interbank lending rates and indirectly weaken the yen, analysts say.

Skeptics at the BOJ argue that the yen’s drivers are different now than they were in December. Investors now view the yen more as a safe haven and are not focusing on short-term interest rate differentials like they were in December. Therefore, lowering money market rates this time might not have the impact it had in December.

“It’s an option but it won’t work both in terms of affecting currency moves and supporting the economy,” said a source familiar with the BOJ’s thinking.

Still, it’s among the favorite options within the BOJ as it is easier to implement than other more aggressive measures.

The move would be more of a token gesture to show the central bank was doing what it could to support the economy.

Market reaction: It would have little impact on money market rates and the yen as such a move is already widely expected in the markets.


Possibility: Likely

This is a less attractive option for the BOJ, which worries that increasing government bond purchases from current levels of 21.6 trillion yen per year could give the impression it was directly financing government spending.

Although 10-year bond yields have already dipped below 1.0 percent, buying more bonds could be a more effective way to support growth as long-term yields still have room to fall.

Additional buying could also weaken the yen by showing markets its determination to expand fund supply, analysts say.

Market reaction: Bond yields might briefly fall, subsequently pushing down the yen. But there could be a danger of yields rising if markets felt Japan was losing control over its debt.


Possibility: Less likely

If the government steps up pressure on the BOJ to ease policy further it may cave in to lawmakers’ calls to set a more rigid inflation target and commit itself to do more to beat deflation.

But this is highly unlikely for now, as Shirakawa is against setting a strict price target for fear of binding future monetary policy, BOJ officials say.

The BOJ may instead opt for a vaguer commitment, such as pledging to keep rates low until Japan is comfortably out of deflation. The Federal Reserve’s stated commitment to keep rates low for an “extended period” could be an example, analysts say.

The challenge would be to make the pledge clear enough to be effective, but vague enough to leave policy options open.

Market reaction: Two-year bond yields, most sensitive to monetary policy, might fall. But the move could be short-lived as such a commitment is effective when markets are starting to factor in the chance of a rate hike, which is not the case now.


Possibility: Highly unlikely

The BOJ already floods markets with cash as it did during its five-year quantitative easing policy until 2006. It now targets interest rates, whereas under its quantitative easing policy it targeted liquidity.

But it is strongly against reverting to a formal quantitative easing policy with a liquidity target, as it feels the policy did little to boost the economy or beat deflation.

Achieving a liquidity target would also be tougher now as banks are in less need of funds than they were a decade ago, when Japan was mired in a severe credit crunch, BOJ officials say.

Cutting the policy rate to zero from 0.1 percent is also among the least favorable options, as it would discourage banks from trading in the money market and make it hard for the BOJ to guide short-term rates.

Market reaction: The shift would come as a surprise and sharply push down money market rates, bond yields and the yen.


Possibility: Highly unlikely

If Japan were to intervene in the market to stem yen gains, the BOJ may decide not to drain the yen sold out to the market, some traders say. This unsterilised intervention would leave extra yen in the market, effectively a form of monetary easing.

The government may urge the BOJ to take this approach if it were to intervene, although the chance of Tokyo stepping into the market is low for now. The United States and Europe have little reason to support Japan’s efforts to curb yen gains, and solo moves by Tokyo are seen having a limited effect on the markets.

Market reaction: The surprise move may briefly weaken the yen although its impact would be short-lived.

($1=85.11 Yen)

Yen surge alarms some in BOJ, chance of easing rises